The Rise and Fall of Big Names in Sportswear

Constant changes in consumers’ shopping habits and the development of e-commerce has left marks on sports brands, with several growing in popularity and others dropping in sales and buyer interest.

Going public in 1980 sportswear brand Nike rapidly grew in popularity. An investment of £1,000 in 1980 would have grown to over $700,000 in 2015. However, recent developments in the markets have impacted negatively on the company with shares dropping 16% to $52 since 2015. This fall has been attributed, partially, to a rise in e-commerce shopping as the brand’s major distributors, such as Foot Locker, have been negatively impacted by growing preferences for online shopping. Another contributing factor has been the growing success of rival company’s such as Adidas, whose currency neutral sales increased at a rate between 17% and 19% and gross margins increased 0.8pp to 50.0% while Nike’s sales remained flat. Market analysts have forecast that Nike stock prices could decline by a further 10% to $2.41 per share with a possible drop of 6.6% in earnings to $3.96 billion in 2017.

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Another company that has responded to a recent lag in customer activity is clothing company Under Armour. Shares have dropped by 8% and as a result plans have been put underway to reduce the company’s workforce by 2% to cut costs. In this quarter revenue grew by only 8%, compared to the same period in 2016 when revenue grew by 28%. In an attempt to increase consumer traffic Under Armour will be directing more of it’s efforts towards direct-to-consumer channels.

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While several well-established brands have been impacted by changes in consumer attitudes and the rise of multiple competitors, one company that has rallied is the athletic apparel company Lululemon. In 2014 the business experienced a dramatic drop in share prices, from $81 to $39 following a recall of 17% of stock due to faults. However, in following years stocks have begun to appreciate again, increasing by 33.4%, currently valuing at $61 per share.

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As buying habits change, moving towards e-commerce and certain brands, companies will need to innovate to remain relevant in the market. Although Nike has recently declined in value the introduction of their new shoe line, VaporMax has been met with positive results, implying that the company could rally. As the market becomes saturated with more companies some will rise in popularity, leading to higher profits, while others will fall behind and command a smaller portion of the industry.

(Please note: James O’Leary does not currently hold a position in Nike, Foot Locker, Under Armour, or Lululemon. Henry James International does not currently own a position Nike, Foot Locker, Under Armour, or Lululemon).

(Please note: James O’Leary currently holds a position in Adidas. Henry James International currently holds a position in Adidas). 

How France’s Economy is Growing and Reforming

France’s economy looks to be on the up recently, following growth in several areas over the first two quarters of 2017. Developments in the country’s employment rates, as President Macron makes steps towards reformation, may also lead towards positive growth for the country.

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The second largest economy in the Eurozone, France experienced economic growth of 1.9% in the second quarter, following the upward trend that was observed in the previous two quarters. One driver of this upward growth is a high level of foreign demand for French exports. Export levels increased by 10% in the second quarter of 2017, the highest level in four years, following a rise of only 3.4% in the first quarter. The increase in exports was nearly seven times higher than that of imports, which rose by 1.5% in the second quarter. Although also up by 2.7% in the second quarter, gross fixed capital investment growth was down on the first quarter when it hit 5.4%, its highest level since 2011.

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Progress is also being made in France’s labor market. President Macron has put measures in place in the hope of tackling the country’s growing unemployment issues. In a move to make it easier for companies to negotiate agreements in-house concerning employee wages and working conditions the labor reforms will limit the power of unions to a certain degree. Further efforts have been announced to encourage companies to offer more permanent contracts than they currently do with caps being placed on the payments that can be imposed during tribunals over unfair dismissals. Previously tribunals were able to set high rates of payments in unfair dismissals claims and the hope is, with these rates capped, fewer companies will offer temporary contracts to employees. In another attempt to raise employment levels the government intents to make changes to the unemployment benefits system and reduce payroll taxes. These steps, although controversial, should stimulate higher employment.

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As Macron’s policies are put into place it awaits to be seen how they will affect the employment sector. The outlook is generally positive with levels of unemployment falling, however, unions currently still hold a high level of power, working with employers to set national wage rates. The result is that, for many companies, the wages they pay their employees are out of line with productivity levels. Overall, the country appears to be in a period of upheaval, with upward economic growth over the past three quarters and positive developments within France’s employment sector.

Mexico’s Market Activity Bounces Back in 2017

Mexico’s currency fell to record lows in November 2016 following the election of President Trump. Fears that foreign investment in Mexico would reach a standstill caused a mass sell of the Mexican peso. However, contrary to these fears, the currency has seen as resurgence, with monetary policy and business conditions pushing it to its highest level in over a year. Other areas of Mexico’s economy are similarly seeing positive growth, the country being one of the strongest-performing markets in 2017, with the MSCI Mexico Share Price Index soaring by 30.2% year-to-date.

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Up until the second quarter of 2017 Mexico saw 16 straight quarters of economic growth, with exports alone valuing $198 billion. In the first six months of 2017 the export industry in Mexico increased 10.4% year on year according to Mexico’s National Institute of Statistics and Geography. Mexico’s number one export sector is the automotive industry, representing 76.8% of all exports to the US, and it saw a leap of 9.8%. It was estimated for the June quarter that the country would see an economic increase of 0.2% which they met three-fold, up 0.6%. Having created a record number of new jobs much of this rise is due to performance in the services sector which, although not as substantial as the 3.7% increase of the first quarter, was still up 3.2% year-on-year in the second quarter.

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However, not all investment news is positive for Mexico following President Trump’s indication that the North American Free Trade Agreement (Nafta) trade negotiations could turn sour. On the 23rd of August the iShares MSCI Mexico Capped exchange-traded fund dropped by 0.5%. Mexican stocks also took a hit, with Cemex down by 0.3%, and America Movil falling 0.8%. Kansas City Southern, which is exposed to Mexican trade via its railroad network, saw its shares plummet by 2.4%. Wal-Mart de Mexico and Grupo Televisa, however, rallied up 1.4% and 0.6% respectively.

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Despite these slips in stock values Mexico’s economy has remained resilient in 2017, amid fears that political changes could have negative impacts on the country. In the second quarter of this year GDP was up 0.6%, slightly lower than the 0.7% growth of the first quarter, but a rise of 1.8% compared with the same period of 2016. While these progressions bode well for Mexico’s economy, uncertainty concerning the renegotiation of Nafta and the effects it will have on the second-largest economy in Latin America still exists.

(Please note: James O’Leary does not currently hold a position in Kansas City Southern, Wal-Mart de Mexico, or Grupo Tevevisa. Henry James International does not currently own a position in Kansas City Southern. Wal-Mart de Mexico, or Grupo Tevevisa.

Please note: James O’Leary currently holds a position in CEMEX and American Movil. Henry James International currently owns a position in CEMEX and American Movil).

Developments as the Travel Sector Takes Off

International travel is more popular today than ever before, with the International Air Transport Association stating that airline passenger demand grew by 7.8% in June 2017. To keep up with this growing demand, travel companies have to continuously adapt and develop to stay competitive.

In 2015 the travel company Expedia bought over HomeAway, an accommodation rental site, in an attempt to rival Airbnb. Work is now under way to better integrate the two platforms, making it easier for customers to find holiday homes as well as flights all on one same site. In the current quarter the number of rentals available on the main Expedia site was increased from 20,000 to 60,000. The investment in HomeAway has so far yielded positive results for Expedia, with revenue increasing by 31% relative to the level of revenue in the same time period of 2016. Overall earnings were higher than predicted, boosting investor confidence. As a result the price of Expedia shares was up 3.4% on the 28th of July.

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As Expedia’s position in the travel sector gets stronger other, rival companies are struggling to keep up. Travel comparison site TripAdvisor has launched a campaign of television advertising in an attempt to reach a larger audience. The company aims for the television strategy to benefit its financial situation in the long term but has noted that, in the short term, profits could take a hit. Although the company’s second quarter earnings exceeded expectations, it may still fall behind other big name travel businesses such as Expedia and Priceline whose spending on advertising along is more than TripAdvisor’s revenue.

The increased demand for international travel has benefited aircraft companies as well. BOC Aviation, Asia’s largest aircraft operating leasing company, has grown its portfolio to 261 planes, from only 50 in 2004. With another 80 deliveries planned it is set to be the largest buyer of aircrafts in 2017. This increased demand for air transport has pushed shares of BOC Aviation up by 7% from last year while DBS Vickers analyst Paul Yong predicts that the company will see its net profit rise by 18% annually over the next five years. Major US airline Delta Air Lines has similarly benefited from the increased demand for flights. Shares have reached $50, which is around nine times its 2017 estimated earnings per share, with Andrew Bary of Barrons believing there is a possibility of Delta’s stock rising by a further 35% in the next couple of years.

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As travel becomes accessible to more people many companies in the sector will continue to benefit. However, with so many companies offering similar services, some are destined to fall behind in the market if they do not innovate.

(Please note: James O’Leary does not currently hold a position in Airbnb, Expedia, Trip Advisor, Priceline, or BOC Aviation. Henry James International does not currently own a position in Airbnb, Expedia, Trip Advisor, Priceline, or BOC Aviation.).

(Please note: James O’Leary currently holds a position in Delta Airlines. Henry James International currently owns a position in Delta Airlines).

The End of LIBOR

It has been announced that the UK Financial Conduct Authority (FCA) will be phasing out the main interest rate indicator, the London Interbank Offered Rate (LIBOR), by the end of 2021. This decision was reached as the FCA deemed the indicator has become unreliable. The LIBOR is a 50 year old global borrowing benchmark based on a daily price. This price is set at 11.45am GMT by averaging submissions from a group of 20 banks of a rate that they believe they could borrow money from other banks at. This rate is then used as a standard for pricing loans, mortgages, and other financial transactions and spans five different currencies.

This is not the first time that LIBOR has made headlines, having been the subject of controversy in the past when it came to light that banks had been submitting false data in 2012. As a result several of the big banks involved in the scheme were fined around $9 billion and several bankers were convicted for manipulating the projected rates.

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The decision to replace LIBOR within the next four years is predicated upon the fact that the underlying market of bank borrowing that LIBOR measures is not active enough to be a reliable measure. For one currency in one lending period in 2016 there were only 15 transactions. Andrew Bailey, widely predicted to be the Bank of England’s next governor, questioned “if an active market does not exist, how can even the best run benchmark measure it?”. As of yet no alternative has been announced, however, two measures have been suggested as potential replacements. Bailey has recommended the UK’s Sterling Overnight Index Average (SONIA) and a broad Treasury repo rate, which will reflect the cost of borrowing money secured against US government debt, as two viable benchmarks, both being strongly based in significantly active markets.

Despite the proposal of suitable alternatives there are some that believe that this transition will not be completed in the next four years with $350 trillion still in outstanding derivatives, mortgages, and loans to move to a new system. Mark Cabana, a strategist with the Bank of America Merrill Lynch, says that many banks may continue to contribute to the LIBOR rate after 2021. By this point it will no longer be necessary for banks to contribute calculations for rates in sterling, however, the LIBOR administrator, the US’s Intercontinental Exchange, may still publish the dollar rate.

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Despite the disagreement over deadlines it is certain that LIBOR, following corruption and growing irrelevance, is on its way out, to be replaced by more accurate and relevant rating systems.

The Impact of a Global Shift to Renewable Energy

As fossil fuel reserves are depleted companies have been looking for alternative sources of energy. However, does this mean that renewable energy companies are performing better than suppliers of traditional energy sources? At the end of 2016 over 24% of global electricity was produced from renewable sources, with hydropower being the leading source. Wind power accounted for 4% of this and 1.5% was from solar energy. These numbers, however, were still heavily overshadowed by energy from fossil fuels.

Hydroelectricity, which is the current frontrunner in the renewable energy sector, seems to be holding stable within its position. Brookfield Renewable Partners, which owns 215 hydroelectric facilities across North America, Latin America, and Europe, finished 2016 with revenue of $2.45 billion, a massive increase on the 2015 revenue of $1.63 billion.

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Increased interest in solar energy had seen huge advancements in the field, with solar power becoming increasingly cheap to generate. However, this in turn has meant that over the past year, solar stocks have experienced large declines in value, with some of the top companies being down by 50%. This slump may be caused by decrease in demand for solar panels in China, as well as a glut of panels, forcing prices down. Despite the current downward trend the outlook for solar energy companies is still positive, as the cost of generating power from the sun appears to be lower than the cost of generating it from fossil fuels. As more people are turning to this alternative energy source 2016 saw solar energy make up nearly 40% of all new energy installations, and companies seem to be recovering lost ground. First Solar Inc. saw first quarter revenue of $891 million, far beyond the $691 million consensus estimate.

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Companies working in wind power could also be set for increases in stock value. In the last year wind energy made up only 5% of total energy produced, but the American Wind Energy Association estimates that in the next ten years this figure could rise to 20%. As of the 10th of July the company Vestas Wind Systems A/S saw its stocks trading at $31.63, an increase of around 44% over the last 12 months. General Electric is also making a name for itself as a worldwide leader in the wind power sector, with the announcement of a planned acquisition of LM Wind Power for $1.7 billion.

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While some renewable energy companies are experiencing lulls in their revenue, it may be short-lived as, according to the Energy Information Administration, the costs of generating power from renewable sources is much less that the cost of power production from traditional sources. In the current economic climate it only costs around 1.3 cents per kilowatt hour to generate power from hydroelectric systems, and about 2.6 cents per kilowatt hour to produce electricity with nuclear power. As various companies work to create solar panels at a lower cost, solar energy could see a similar fall in cost to produce energy.

(Please note: James O’Leary does not currently hold a position in First Solar Inc., LM Wind Power, or Brookefield Renewable Partners. Henry James International does not currently own a position in First Solar Inc., LM Wind Power, or Brookefield Renewable Partners for any client portfolios).

(Please note: James O’Leary currently holds a position in General Electric and in Vestas Wind Systems A/S . Henry James International currently owns a position in General Electric, and in Vestas Wind Systems A/S in client portfolios).

China’s Gray Rhino Financial Risks

In the financial sector black swan events are those which are unlikely to happen but, if they did, would have a huge impact on the country and they are nearly impossible to predict. The elephant in the room is an event that everyone is aware of but no one wants to address. A new animal has recently been added to the list of financial risks – the gray rhino. A gray rhino risk is an event that is highly probable and high-impact that officials have neglected to address. China is currently facing just such a risk as debt has built up in Chinese banks and firms due to the unregulated shadow banking system.

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China’s economic growth is founded on a system of credit and the growing debt levels have surged China’s non-financial debt-to-GDP ratio to over 250%. Having neglected to curb bank borrowing previously, President Xi has now begun efforts to prevent a financial crisis which could negatively effect the domestic economy and result in social unrest. However, the current situation presents somewhat of a catch 22. Tackling debt levels would result in a sharp drop in growth, meaning a large portion of the population could find themselves without employment. If left as it is with no attempts to solve the issues, the financial situation could lead to the banking system crashing.

As the government begins to address this long-standing issue, investors are worrying that risky assets, such as small stocks, may bear the brunt of the damage, as many of them are purchased using credit. The Shenzhen, China’s small-cap index, fell by 4.3% on the 17th July while the tech-focussed ChiNext index closed the day at 5.1%, its lowest point since 2015. The government’s expansion of regulation into more aspects of the economy, rather than just financial sector excesses as before, has prompted many investors to sell off their domestic stocks. If Chinese stocks suffer as a result of efforts to rectify the gray rhino risk, the effects could be felt in other countries. In a global market, if a country as influential as China experiences problems other areas will follow.

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Despite the issue of bank debt finally being addressed by the Chinese government, the country’s growth in the second quarter of 2017 was still 6.9%, a faster rate of growth than predicted. While this puts China back on track to meet its growth target this year, it means that the country is still heavily relying on debt-fuelled investments to develop GDP. To target the gray rhino risks, China should address problems that could arise from liquidity, shadow banking, credit, and avoid falling victim to price bubbles in the insurance and property markets. The outcome otherwise could be negative for China’s economy.

Decline of the Silver Screen Industry?

How consumers choose to view movies has been changing over the past few years with a move towards home viewing using companies such as Netflix and Amazon Prime. This viewing trend is beginning to take its toll on both film and television studios, as theatres are becoming a less popular option for viewings. Currently Americans spend around $11 billion on going to movie theatres every year and a further $12 billion on home video rental and purchase (both physical and digital). Home purchase, however, was down by 7% in 2016, compared with the previous year, while subscription streaming leapt up by 23% in the same time period to $6.23 billion.

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Film companies are beginning to tap into the financial benefits they could reap from employing more watch on demand options when it comes to new films. Premium video on demand (VOD) has the potential to be two to three times more valuable to studios that movie ticket sales, and, as a result, some Hollywood studios are looking into the benefits of in-home releases of new movies. These early-release films would be available to see at the same time as, or shortly after, theatre release and would cost home viewers around $30 to $50 in comparison to the $5 to $7 currently paid to view movies months after the release day.

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While this shift in focus to subscription streaming could benefit, and boost revenue, of Hollywood movie studios, the impact could be negative for movie theatre companies. In the past two months Imax China has seen share prices fall dramatically. Nomura analyst Richard Huang has said that four reasons were put forward for this drop, one being wide-spread concern that there is a drop in consumer interest for premium movie viewing experiences and that, as a result, Imax will begin to face structural market share loss. This, and the other three reasons – concern over dwindling popularity of Hollywood blockbusters, a belief by some that Imax is choosing the wrong movies to screen, and the suggestion that the majority of new Imax screens have been installed in lower-tier cities – has resulted in Imax stock values falling by 40%.

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As the movie industry moves into this state of transition, several companies within the sector have seen drops in stock price. Opening on the 5th of July Walt Disney shares were down 1.4% to $105.98, while Lions Gate Entertainment experienced a drop of 1.3% to $27.77, and Regal Entertainment Group declined to $20.07, down 1.5%. It remains to be seen if this downward trend will continue for movie companies or if the proposed, alternative audience viewing options will reverse the losses.

(Please note: James O’Leary does not currently hold a position in Netflix, Amazon Prime, Imax China, Walt Disney, Lions Gate Entertainment, or Regal Entertainment Group. Henry James International does not currently own a position in Netflix, Amazon Prime, Imax China, Walt Disney, Lions Gate Entertainment, or Regal Entertainment Group, for any client portfolios).

The Rise and Fall of the Metal Market

Many investors look at gold as a safe bet, an insurance policy for times when other stocks are less certain. In this year an ounce of gold has increased in value by almost 13%, to $1,296. There are two schools of thought about why the commodity has experienced such a high level of growth after having been uneasy in the first part of this year. The first is that this increase comes off the back of political unrest. As political tensions grow both in the US, with continuing problems among the Trump administration, and in the UK, with the recent attacks as well as the general election, some believe that these could begin to affect the economy, and upend corporate profit growth. Gold is a stable way for investors to hedge their bets against this possibility.

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Another idea is that, rather than gold prices being increased as a result of politics, the rise could be linked more to the state of the economy and monetary policy. The US dollar is currently near a seven-month low compared to other world currencies and it has been observed on several past occasions that as the dollar falters the price of gold rises. Others believe that recent rise and fall in gold price is seasonal, with Frank Holmes, CEO and Chief Investment Officer of US Global Investors saying that there is a 60-70 % chance that the price of gold will experience a general upward trend between June 2017 and January of next year.

While gold may be a safe bet in its current state there are also other metal commodities worth following. As the demand for electric vehicles continues to grow, so will the demand for both lithium for batteries and copper for wiring, making these possible safe and lucrative investment options.

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The auto industry is also responsible for an upward trend in the price of palladium, a crucial component of catalytic converters. After having sunk to $657.50 per ounce in December 2016 the precious metal has risen by 24% in 2017 to a current price of $856.60. However, while it has regained its ground having been near a seven-year low since January, there are concerns that palladium may not be able to maintain this as there is a slowing in car sales in the US, Europe, and China. In the US car sales fell again in May, contributing to a consecutive five month decline, while in the EU, although sales rose by 4.7% in the first four months of 2017, they then dropped by 6.6% in April. Other countries have, however, experienced continued growth in auto sales, such as Canada whose sales increased by 11% in May. The result is divided opinion on the future of palladium, with some believing that it has reached its peak and others of the opinion that it will hold its ground and possibly even continue to appreciate in price.

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The Rise of Artificial Intelligence

Manifestations of artificial intelligence (AI) stretch back as far as Greek mythology however, it has only taken off in a huge way in recent years. As interest in this field grows more, big-name companies, such as Google, Yahoo, Apple, Intel, and IBM are competing to acquire private AI technology development companies, with nearly 140 companies having been acquired already. Market research firm Tractica has predicted that spending on AI will grow from $640 million in 2016 to $37 billion by 2025.

A front runner in the development of AI has been the UK, where London-based venture capital company Octopus Ventures first invested in the natural knowledge answer engine Evi (now the technology behind Amazon’s Echo) in 2008. The firm continues to be an active investor in AI, selling products, such as the app Swiftkey, to high profile companies like Microsoft. Octopus Venture’s Investment Director, Luke Hakes, believes that their AI successes are why the UK is now the inspiration for other countries in how AI can be commercialised, and this growing interest will have the effect of more funding being put into AI companies.

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As well as seeing the AI market itself grow exponentially, other companies are experiencing growth off the back of AI’s success. Companies who develop and make chip technology have seen a revival as the demand for new AI products had prompted the need for chips tuned to carry out very specific functions, and with the ability to store and synthesise information in novel ways. Companies such as Advanced Micro Devices, Intel, and Nvidia have all benefited from this growth, with Nvidia’s latest quarterly results stating that it has nearly tripled sales of chips to data centers involved in AI. 21% of the company’s revenue is now from computing tasks that include AI, amounting to $409 million for the last quarter.

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Growth in this sector is being spurred on as well-established companies implement AI technologies to enhance their user experience. Facebook has developed its own AI program, DeepText, that analyses posts to understand the context of them, recognises faces in photos to make it quicker to tag people, and is even able to identify people and their voices in video content. Outside of the online sector, much research is being carried out into the use of AI in the transport field. By 2035 around 76 million vehicles with some level of autonomy will be in use, comprising a market that will be worth $77 billion.

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Although much of the development into these technologies is relatively new, investment in AI seems to be strong and stable, with a predicted steady increase in the future.

(Please note: James O’Leary does not currently hold a position in Google, Twitter, Intel, IBM, Advanced Micro Devices or Nvidia. Henry James International does not currently own a position in Google, Twitter, Intel, IBM, Advanced Micro Devices or Nvidia for any client portfolios. James O’Leary does currently hold a position in Apple. Henry James International does currently own a position in Apple).

pixaAll content in this blog represents the opinion of James O’Leary